Vanguard and American Funds are Twins — Like DeVito and Schwarzenegger

By Brendan Conway

As Morningstar’s John Rekenthaler pointed out yesterday, you don’t often hear investors speak of mutual-fund companies Vanguard Group and American Funds in the same breath. And yet, he rightly points out, there are similarities. Both companies tend to refrain from chasing the latest hot asset class. Each has a conservative corporate culture offering no-frills funds.

Today Rekenthaler has his eye on where they differ. One area: $110 billion in net investor redemptions from American Funds’ U.S. stock funds the last three years, versus $45 billion inflows for Vanguard Total Stock Market Index.

Where they don’t differ hugely: Returns. Rekenthaler shows the 5-year returns of the American Funds group versus Vanguard: 6.85% versus 7.35%. Go back 10 years and it’s 7.96% versus 7.95%. And so forth.

If the returns aren’t all that different, what explains the astounding asset-gathering of the one, and the money flight from the other? Rekenthaler argues it’s all about marketing and distribution. On American Funds:

The company did make an effort to diversify from stock funds and to crack the 401(k) marketplace, but it was not a strong effort …. In addition, 2008 happened. American Funds historically had fared well during bear markets because of its funds’ high cash positions and preference for blue-chip firms. As a result, part of the company’s marketing pitch was its funds’ ability to dodge the worst of bear markets. However, 2008 took down nearly all equity funds, including those at American Funds. The funds disappointed those who, perhaps unreasonably, expected more.

In summary, American Funds is struggling because of distribution and marketing decisions, not because of performance. This is relevant because American Funds is often held up as an example of the failure of active fund management. But that is not so, and to interpret American Funds’ business difficulties as a comment on the issue of active versus passive management is to misread the data.

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JULY 11, 2013 1:10 P.M.

Question active managment wrote:

The question is: are the returns quoted above net of fees or gross of fees? I suspect gross....therefore, if you calculate the net of fees results, Vanguard would come out higher as their fees are low. Institutional investors have, and continue to, move towards lower fee vehicles in their traditional allocations (long equity and fixed), while reserving what they pay in fees to non-traditional asset classes (anything other than long). You are just seeing retail investors moving in that direction.

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Chris Dieterich has covered the U.S. stock market for The Wall Street Journal and Dow Jones Newswires. He is a graduate of Regis University and the Missouri School of Journalism.